The Blood Exemption and Other Tales of Taxing Nonprofit Hospital Purchases

April 11, 2008

States seeking a neutral, transparent sales tax system should exempt all business-to-business transactions and impose sales tax only on final retail sales of goods and services. Because many states continue to impose sales tax on business-to-business inputs, examining the tax treatment of a variety of such transactions can provide insight into the neutrality and transparency of a state’s overall tax system.

While income tax exemptions for nonprofit hospitals may not be justified under the principles of sound tax policy, sales tax exemptions for the purchase of inputs are. Only seven states exempt inputs purchased by all hospitals, and six states do not exempt inputs purchased by nonprofit hospitals. For many states, exempting inputs from the sales tax should be a part of any tax reform effort.

A new Tax Foundation Fiscal Fact, “States Should Avoid Sales Taxes on Nonprofit Hospital Purchases,” provides a quick look at how each state taxes purchases made by nonprofit hospitals. Tennessee provides one illustrative example. Parkridge Hospital in Chattanooga purchased human blood from a commercial blood bank, in turn making it available to patients in need of transfusions. The state ordered the hospital to pay sales tax on the purchase of the blood from the blood banks. The hospital complied under protest and then sued for a refund. Even though Tennessee’s sales tax statute specifically limits the sales tax to “selling tangible personal property at retail in this state, the Tennessee Supreme Court ruled against the hospital and ordered the tax paid on the business-to-business transactions.

Tennessee legislators responded by inserting a specific sales tax exemption for blood purchased by charities into the state code. While the “Blood Exemption” is still on the books, other purchases of inputs by hospitals (aside from some equipment) in Tennessee remain subject to sales tax. Patients in Tennessee thus pay hidden taxes embedded in their hospital bills, and Tennessee’s tax system is less transparent and neutral.

Click here to read the Fiscal Fact. Click here for more on sales taxes.

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